30 Jan PUBLIC PENSION CORNER, #29: Fiduciary Duties, China, and Me
NEWS:
I. Banking Committee Chairman Discusses Support for Administration’s ESG Agenda
Senator Tim Scott (R, SC) made comments the other day indicating that he supports President Trump’s ESG agenda, specifically Trump’s efforts to push back on politicized de-banking:
Banking Committee Chairman Sen. Tim Scott (R., S.C.) is supporting President Donald Trump’s effort to roll back what Republicans describe as years of pressure that pushed banks to restrict services to lawful but politically controversial industries, including firearms manufacturers and fossil fuel companies.
“As Chairman of the Senate Banking Committee, I’ve pushed back on Washington regulators who tried to pressure banks into cutting off lawful businesses and everyday Americans,” Scott told the Washington Reporter. “President Trump understands that no one should be locked out of the financial system, which is why he signed an executive order to stop this practice. We’re already seeing real results – regulators are pulling back rules that punished banks for serving legal customers, thanks to the President’s action and my FIRM Act.”
Scott’s comments come as federal reviews and executive actions have renewed scrutiny of how political activism, proxy advisory firms, and bank supervision intersected during the height of environmental, social, and governance (ESG)-driven policymaking.
II. Wells Follows JPMorgan’s Lead, Quits Proxy Advisory Services
Earlier this week, Wells Fargo announced that its wealth and investment management groups will no longer use outside proxy advisory services and will make all proxy voting decisions internally. Wells becomes the second major financial institution to make such an announcement, following JPMorgan Chase’s similar announcement three weeks ago:
Wells Fargo wealth- and investment-management division severed ties to Institutional Shareholder Services, a person familiar with the matter said, the latest blow to a proxy-advisory industry under siege.
The bank will make voting decisions on shareholder proposals without the help of proxy advisers like ISS and instead rely on a new internal system. Those votes will be determined by the bank’s custom policies and voting instructions, Wells Fargo told The Wall Street Journal.
The platform, backed by technology provider Broadridge Financial Solutions intends to “bring increased independence to this important investment service,” the bank said in a statement.
COMMENTARY
By Stephen R. Soukup, President and Publisher, The Political Forum
“Fiduciary Duties, China, and Me”
As you may be aware – since it was announced in addenda to the last two editions of this newsletter – yesterday, the State Financial Officers Foundation launched the education campaign developed for its Public Fiduciary Network. This campaign will include an ongoing series of webinars featuring experts from in and around the public fiduciary space, slated for the last Thursday of every month (at 3:00 PM Eastern). In yesterday’s webinar, I described for attendees the purpose of the PFN and my interest in the topics it addresses. As part of that description, I told part of a story that I would like to expand upon today for reasons that should, I hope, be clear by the time I’m done.
This is the story of my short-lived employment at the now-defunct Lehman Brothers – a story that longtime readers may already know, but which is worth retelling in the context of fiduciary matters.
Exactly 25 years ago, in the spring of 2001, I went to work in the Washington Research office of Lehman Brothers as a junior analyst. As I had for the previous five years at Prudential Securities, I worked with and for a senior analyst, the inimitable Mark Melcher, who was, more or less, the creator of the art of Washington research for Wall Street. Now, to be clear, the people with whom we worked directly were good and decent and talented people. The firm itself, however – as evinced by its collapse in 2008 and that collapse’s role in the Great Financial Crisis – had some…issues.
For us, the most relevant of these issues had to do with the firm’s senior investment bankers and their preoccupations with what we considered risky endeavors. At the time, and presumably for the rest of the firm’s existence, its bankers were obsessed with the People’s Republic of China, which was then merely a dozen years removed from the massacre at Tiananmen Square. Lehman bankers were up to their eyeballs in deals in China. They were hoping to be among the first Western firms fully to penetrate the Chinese market and, as such, to make a killing along the way.
For our part, we neither knew nor cared what the investment bank was doing. Our job was to analyze political risks and present them to our institutional clients. And we did so with respect to China. Or, at least we tried to do so.
We wrote a series of reports/essays/forecasts warning of the dangers of investment in the PRC. The country’s leadership, we warned, was inarguably corrupt, unaccustomed to the behavioral niceties that enable successful capital investment, and, therefore, an untrustworthy financial partner. All businesses in China, we warned, were state-connected (if not fully state-owned), and the state could not be counted on to behave in ways that would ensure fair and honest treatment of investment. In short, we warned that it was a mistake and a breach of fiduciary duties for financial services firms to put their clients’ capital at risk in China.
Now, I’d like to say that our warnings were heeded, but, of course, they were not. Indeed, they were not even heard. We learned about the Lehman investment bank’s dealings in China when the head of banking for Asia blocked the publication of our warnings about investing in the country. We were told that our articles were being pulled from the firm’s publications, and we were instructed not to write about China in the future, for risk of imperiling the firm’s deals there. We were told – in so many words – that what we wrote may well be true, but it didn’t matter. There were more important variables at play.
Melcher resigned, not immediately, but soon enough to make his point. I – as a junior analyst with a mortgage, car payments, and a pregnant wife – kept my job until I had a viable alternative. That alternative was The Political Forum, which Melcher started, and I joined soon after; which provided macro and geo-political analysis and forecasting for more than two decades; which still exists, providing ESG-related consulting services; and which publishes this newsletter. Our purpose then and my purpose now is to be honest with readers about risks and obligations and not to sugarcoat market stories to make a quick buck.
As for Lehman and China, that’s an interesting subplot. There is an old adage in markets and investment that being right too early is indistinguishable from being wrong. As has become clear over the last few years, we were absolutely, 100 percent, inarguably right about China and its government’s inability to provide the legal and ethical infrastructure to enable free and fair capital markets, much less effective and transparent business operation. We were right to be skeptical, right to warn our clients about the risks, and right to keep hammering these themes. We were, of course, also waaaaaaaaaaaay too early. In the two decades between when we first offered our warnings and when financial services firms began to recognize the risks of investment in China and, thus, began to pare back those investments, a LOT of people made a LOT of money doing precisely what we recommended they not do. I don’t know if Lehman’s investment bank made much money in China, but I would guess it did (not that it did the firm or its shareholders much good in the end). A good time was had by all. Until it wasn’t.
Does that mean that we were wrong?
I don’t think so. In spite of everything, I believe we were right about what our duties were to our readers/clients and what financial services firms’ duties were to their investors. As every schoolboy knows, Milton Friedman famously wrote that a corporate fiduciary’s “responsibility is to conduct the business in accordance with their desires, which generally will be to make as much money as possible….” What most people forget, however, is the bit that came right after that: “…while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom.” Fiduciary duties are about doing what is best and most reasonably beneficial to the owners of the capital in question. That “generally will be to make as much money as possible,” but not always. Sometimes, other considerations take precedent. In this case, I believe that the risks involved in investing in China in 2001 greatly outweighed the potential rewards. The fact that those rewards turned out, in some cases, to be significant doesn’t necessarily change that calculation. It just means that fortune decided, in this case, to smile on the bold and foolish.
That’s good for them, I guess, but it shouldn’t be taken as evidence that they did the right thing. The world is far more complicated than that.
Tune in for more on February 26th.
